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How Big Will the Bounce Be?

Asia's economies may improve next year, but
they still face a long list of problems

By

Jason Booth

Updated Oct. 29, 2001 12:01 a.m. ET

Predicting an economic rebound in 2002 is easy. After a near disastrous economic performance this year, punctuated by the human and economic carnage caused by the Sept. 11 terrorist attacks, a bounce of sorts in 2002 is a near certainty.

What remains unclear, however, is the height and duration of that bounce.

Why? The list of long-term economic problems facing Asia is sobering. At home, the region remains hobbled by excess production capacity and deflationary pressures. On the external front, there is the possibility that an unwinding of the U.S. trade deficit will keep Asian exports in a slump for months, even years. Meanwhile, the U.S. stock market may be entering its first protracted bear market in two decades, limiting any recovery by Asian equities.

In hindsight, it is increasingly apparent that the financial crisis that began in 1997 was only the violent start of a painfully drawn-out economic transition for Asia, not a singular cataclysmic event that, as some believed at the time, cleansed the region of many of its deeper economic sins. Indeed, in areas such as banking and government bureaucracy, the reform process in much of the region has only just begun. "Asia's problems have developed over many years so it will take years to restructure," said Pradumna Rana, economist at the Asian Development Bank in Manila.

It's not surprising, therefore, that the growth estimates for 2002 are subdued. The International Monetary fund expects Japan's economy to grow just 0.2% next year. Taiwan, Thailand and Malaysia are to post meager economic growth of between 0.7% to 2% in 2002. Only China is expected to maintain strong growth of around 7.1% next year, though that's down from previous years.

Among Asia's biggest problems is overcapacity. Too many factories are turning out more items than the region's economy can absorb. A recent report by China's State Economic and Trade Commission stated that over 80% of key sectors are suffering overcapacity. Industries such as construction material, chemical, metals and electrical products were cited for particularly excessive output. Of course, China's problem is not hers alone, as excess production on the mainland feeds falling asset prices across the region and around the world. Hong Kong and Taiwan, the economies physically closest to China, are grappling with serious deflationary pressures, resulting in lower wages and weak consumer confidence.

Nor is China the only deflationary villain. Japanese steel makers continue to flood an already saturated market. In South Korea, predictions of semiconductor growth remain largely unchecked even though memory-chip prices have fallen more than 90% in the last year.

Even so, the imperative of reducing production is rarely, if ever, raised. Why not? Asian governments have proven to be more interested in preserving jobs than fostering efficiency. The peculiar situation of South Korea's
Hynix Semiconductor Inc.
is a case in point. A company that is technically bankrupt and responsible for much of the excess chip production, not just in South Korea, but across the globe, it remains on state-bank sponsored life support.

While Asians struggle to rein in their profligate factories, there are worrying developments overseas. Asia's structural weaknesses were partly concealed by a massive U.S. spending spree since the mid-1990s. Since 1997, the U.S. current account deficit ballooned from around $30 billion to $115 billion. That spending helped Asia pull out of the financial crisis of 1998. Yet U.S. trade and current account deficits have been narrowing since late 2000, and some economists argue they could continue to narrow for some years as the U.S. economy works out the excesses of the late 1990s.

A narrowing U.S. trade deficit is especially perilous for big Asian electronics exporters, since it was the voracious appetite for Asian laptops and semiconductors that significantly inflated the U.S. trade deficit in the boom years of the late 1990s. Information-technology products as a percentage of Asia's non-Japan exports has risen from 16% to over 25% over the last decade. Indeed, technology powerhouses like Malaysia and Singapore, where electronic exports account for 25% and 19% of GDP, respectively, may soon be forced to re-orient themselves around less cyclically volatile economic pillars.

Such an economic refashioning, if it occurs, may in the long term be more of a boon than bane for Asia. The loss of electronics exports could prompt Asian nations to pay more attention to their domestic economies, nurturing new companies in the service and consumer sectors. Indeed, the frighteningly comprehensive scope of this economic slowdown does finally appear to be prodding countries like Japan and Taiwan to do what they shrugged off in 1997-98 -- seriously restructure their troubled financial systems.

One old crutch, it appears, has already been snatched away: Bullish U.S. stocks markets, which buoyed Asian markets and economies in recent years, now seems a rose-tinted memory. The Dow Jones Industrial average has been exhibiting 15-to-20-year performance cycles since the early 20th century. The bulls were in the market between 1950 and 1965. The next 17 years saw depressed trading until 1982. U.S. markets then began a rally that scarcely stopped -- until now. By rights, then, the U.S. markets are now overdue for a prolonged downturn. That view is fortified by the fact that the "baby boomers," the large postwar generation whose investments helped fuel the stock-market rally, are heading into retirement and are likely to shift into safer bonds, according to leading U.S. investment strategists like Salomon Smith Barney's John Manley and Morgan Stanley's Byron Wien. That in turn could reduce investment in Asian markets, which have for years looked to the U.S. markets for direction, making it harder for Asian companies to raise capital for expansion.

It looks like rough sailing for 2002.

--Mr. Booth is a reporter in The Wall Street Journal's Hong Kong bureau.